The new, tougher capital rules are designed to help head off future financial failures in the sector. “Capital is a major mitigator to the risk of insolvency,” said FSA managing director John Tiner. “Better calibrated and more risk-sensitive capital requirements will lead to a better regime for non-life insurers aligned more closely to the risks underwritten, and allowing for earlier regulatory intervention when financial problems develop.”

The FSA is proposing a new, risk-based minimum regulatory capital requirement (ECR), driven by ratio formulae for assets, premiums and technical provisions. In addition, the FSA wants to initiate a regime under which it will review firms’ assessments of their own capital needs.

The FSA is bringing the UK in line with the rest of Europe, where some continental countries have very prudent provisioning requirements, said Hitesh Patel, a London-based partner in KPMG’s financial services practice. “The bottom line is, some companies will face increases of capital requirements, some of them quite substantially,” Patel told RiskNews.

The FSA acknowledged the changes could require such firms to respond by either raising new capital or by reducing the risks they face or underwrite.

But consultancy firm Mercer Oliver Wyman said the proposals on stricter capital requirements will not change insurers’ behaviour, unless the regulator provides incentives to improve their internal risk management processes. London-based head of Mercer Oliver Wyman’s insurance practice, Anthony Stevens, told RiskNews the FSA must look at how it can give incentives for internal models in the same way that it offers regulatory capital waivers in the life insurance sector.

Stevens was also critical of the "simplistic formula-based approach" of the ECR. “If you look at all the major non-life insolvencies, almost all are driven by under-pricing and under-reserving,” he said. “A formula driven by balance-sheet ratios doesn’t address that at all.”

However, one industry expert said he believed Mercer’s concerns were overstated. “The incentives for risk management are already there for companies who have made huge losses in terms of correctly pricing products and monitoring risk,” he said.

This white paper looks at the Basel Committee's BCBS239 principles, also known as PERDARR (Principles for Effective Risk Data Aggregation and Risk Reporting), which comes into force from 1 January 2016.